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FATCA: Good Intentions, Poor Design

June 25, 2014

An estimated 6.8 million Americans live and work overseas. Starting July 1, every one of them is going to be negatively affected in some way when the Foreign Account Tax Compliance Act, or FATCA, becomes fully operational.

It appears that the unreasonable and expensive mandates prescribed by this law will be felt hardest not by wealthy “fat cat” tax dodgers but hardworking Americans who have no intentions of cheating the tax system: students studying abroad, missionaries, charity workers, members of Doctors Without Borders, professionals doing a stint in their companies’ overseas branches and many more. FATCA makes no distinction between the honest and dishonest. Everyone, from the Rhodes Scholar to the al-Qaeda financier, is lumped into the same pool of suspects.

What is FATCA?
FATCA was signed into law on March 19, 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act. Starting next month, participating foreign financial institutions (FFIs) are required to annually provide the Internal Revenue Service with names, addresses and account details of all American accountholders with assets over $50,000. This includes U.S. citizens, those with dual citizenships and those holding American green cards. If such persons conduct any sort of financial activity in a foreign country—from banking to investing to buying insurance—they must be identified. Otherwise, the U.S. will impose a whopping 30 percent withholding tax on all U.S. securities transactions.

That FATCA was enacted as part of HIRE is misleading. Whose “employment” is being “restored” under this law—other than that of a handful of tax lawyers, accountants and bureaucrats? When you conduct a Google search of “FATCA,” the top hits that appear are sponsored ads for such professionals who promise to help you make sense of all the red tape.

If anything, FATCA endangers employment and stifles global opportunity. Americans will be disinclined to seek overseas business to avoid the headache of complying with FATCA and humiliation of being denied the presumption of innocence.

We understand the U.S. Government’s concern with the potential for using non-participating FFIs as a blocker to shield U.S. taxpayers from identification and reporting… However, in its current form the proposals [as they are described] are unfortunately unworkable for a deposit-taking global institution.

In a July 2013 letter addressed to Secretary of the Treasury Jack Lew, Rep. Bill Posey (R-FL) called for the law’s repeal:

I have shared my concerns with my fellow members of the House Financial Services Committee. Given the evidence… it is difficult to conceive of any circumstance that would justify imposing such an expensive and counterproductive domestic mandate.

…It is clear that FATCA must either be substantially amended or repealed, and replaced with a cooperative scheme that penalizes tax evasion without harming the innocent.

The website RepealFATCA.com aptly names it “the worst law most Americans have never heard of,” and respected financial columnist Terry Savage recently wrote that “FATCA has just put another regulatory and reporting burden on global financial trade, throwing a roadblock into the free markets that move money to where it gets the best rick-based return.”

In our research, the benefits don’t seem to outweigh the drawbacks.
Besides alienating and offending other countries that have no significant track record of being used as illegal tax shelters, FATCA sets in motion a number of potential unintended consequences, all of them affecting entirely guiltless persons and businesses.

Many Americans are preemptively being denied foreign bank accounts because of the extra workload involved.
Identifying an American client among thousands is problematic as many FFIs do not record the nationality of their accountholders. In other cases, their records have not yet been digitized. Imagine the hundreds of man-hours required to manually sift through mountains of paperwork—all at the FFI’s expense, of course—in order to be in compliance with a law passed down from a foreign tax authority. Personnel will need to be educated and brought up to speed on U.S. tax policy. New procedures and software will need to be designed and implemented. Because of these sweeping changes, the price tag for hunting down tax dodgers is estimated to run as high as $250 million each, which will inevitably hike up banking fees and insurance premiums to cover the additional cost.

Citizens of other nations might avoid entering into business with or marrying U.S. citizens living abroad. According to the new law, if an American owns 10 percent or more of, say, a German enterprise, he must be identified and reported to the IRS. Understandably so, his partners will be none too thrilled at the idea of their domestic business’s financial information being scrutinized by the IRS. Having an American on board will be seen as a liability since he requires additional operating costs, might jeopardize the business’s ability to obtain financing and could potentially incur debilitating fines and penalties were he to be out-of-compliance: $10,000 initially, then $50,000 for each subsequent fiscal year.

The same concerns apply in transnational marriages and civil unions. Suppose the Canadian government required your dual-citizenship Canadian spouse to hand over all of your family’s financial information to the Canada Revenue Agency. You would probably see this as an egregious overreach of a foreign government’s fiscal authority.

Quite possibly the most worrisome consequence of FATCA is that it has the potential to disrupt the free flow of money in and out of the country. According to the U.S. Department of Trade, foreign investors had $2.7 trillion tied up in American securities in 2012, whereas American-based companies invested $4.5 trillion worldwide. Disinvestment on this massive scale, both within and outside our borders, could have adverse effects on the world economy and cause the U.S. dollar to lose its status as the preferred vehicle of international transactions. American Citizens Abroad stated:

The potential losses of trillions of dollars due to foreign institutions and foreigners divesting out of the United States totally outweigh the meager tax revenue that the IRS will actually collect as a direct result of this deeply flawed legislation.

To be fair, no amount of reclaimed taxes is “meager.” Every year, billions of dollars never make it into the U.S. Treasury’s coffers because of the unlawful activities of a few individuals and corporations. But the point stands: in its commendable effort to root out tax evasion, FATCA exchanges the integrity of the U.S.’s reputation and economy for a fistful of dollars. Many see this law as intrusive, impractical, untenable, offensive to our allies and abusive toward innocent Americans. There must be a better, more tactical way to get rid of a few anthills than steamrolling your entire backyard.

To our investors, my recommendation is to keep calm and invest on. Diversify your portfolio with stocks, bonds and gold. And if you must place some of your assets overseas, first consult with a reliable tax accountant who is familiar with the ins and outs of this law that’s set to go into full effect in just a few short days.

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